Last April, ASX launched a book, National Market National Interest, written by Edna Carew, to mark the 20th anniversary of the creation of the ASX. We would like you to accept a complimentary copy. The book describes how six state-based stock exchanges put aside years of competition, to come together in one national, fully integrated, electronic exchange and the success that initiative has been, not only for ASX but for Australia.
The merged exchanges established a liquidity pool which was deeper, more liquid and less volatile than what had gone before. It reduced the risk to investors by narrowing bid ask spreads and market impact costs.
This increased liquidity, attracted more activity and became part of a virtuous cycle, to the point that ASX is now the seventh largest equities exchange in the world as judged by the Morgan Stanley Capital Index which is a measure of the world’s most liquid stock markets.
With the benefit of hindsight what the existence of the multiple state venues exposes, is that rather than competition adding to liquidity, the prior fragmentation actually held back capital formation in this country. Easy access to plentiful, low cost capital is an essential ingredient to economic growth and job creation and we can now see the wisdom of that decision twenty years ago to create one national stock market. The CEO of NASDAQ, Robert Greifeld says “The future of exchanges is about technology, flexibility and scale”.
The merger last year of ASX and SFE, to create the Australian Securities Exchange delivered that. While the profound changes the merger has brought to our market macro and micro-structure tend to be overlooked, improved scale economies, new systems and a larger capital base offer increased scope to end-users at lower cost. A tangible expression of this is our recent 75/25 gain-sharing arrangement with qualifying participants.
I shudder to think where Australia’s capital markets would be today if those six state-based stock exchanges had not been allowed to merge back in 1987, or if the merger between ASX and SFE had not received approval last year. So, while instinctively the idea of competing markets sounds superficially attractive, unless they add to liquidity, which is improbable, the reality is they will do more harm than good, and the public interest will not be served. What makes markets efficient is unlikely to be competing venues, with increased opportunities to bypass a central limit order book, but concentrated competition between buyers and sellers coming together at a moment in time in a central, anonymous marketplace.
So, at a time when we are asked to give consideration to alternative trading venues, it is important that we be reminded of the dangers which increased “off-market” transactions through dark pools of liquidity rather than through one central limit order book, pose to the future of investment and capital-raising in Australia. Indeed, investors and listed companies should expect to pay more over time if our markets become less transparent and fragmented, and require substantially higher ‘agency’ costs of supervision. In fact, in all the discussion over alternative trading venues, the truth that exchange fees are the smallest part of the total cost of a transaction seems to get lost.
Consider, for example, the indicative fee allocation for one of the largest investor segments - superannuation funds. Of total fees paid by a superannuation investor, approximately 63% of the fees go to the superannuation fund manager, a further 25% go to the executing broker and just over 10% go in market impact costs. The remaining slice of the total fees pie – between 1.5% and 2% - represents the fee paid to the exchange for trading, clearing and settlement services. In other words, on a transaction of $1 million, where total fees would be around $8,000, the exchange fee component would only be somewhere between $120 and $160 – approximately 0.016% of the value of the transaction.
You can find this analysis in our public submission to ASIC available on our website or in our Annual Report. It bears repeating: exchange fees are only a fraction of the overall cost of trading. Any decrease in market liquidity through fragmentation, or loss of transparency, pre and/or post trade, would widen bid offer spreads and raise market impact costs. If this results in only a 1 cent rise on a $1.00 share, it would dwarf any potential reduction in exchange fees. Indeed it would more than offset a complete elimination of exchange fees. But remember, the cost/benefits of fragmented markets are shared disproportionately. The costs would largely be borne by investors and issuers while the benefits would accrue to the broker shareholders and broker participants of the alternative venue mutuals. This then is a serious public policy issue which needs to be very carefully thought through. Last year, I described the occasion of our AGM as historic, because it was the first shareholder meeting since the ASX/SFE merger.
Today’s gathering is equally momentous because of the events which have transpired over the past twelve months both here and overseas. What one expected to be a year of consolidation, to bed down the merger and establish a new ASX, has proved to be much more. More challenging and more rewarding. I am pleased to report to our more than 34,000 shareholders that the performance of the newly branded Australian Securities Exchange has exceeded expectation. ASX is now, more than ever, at the centre of Australia’s financial economy. Your company operates the country’s major markets for cash equities and exchange traded equity and interest rate (and electricity) derivatives, providing listing, trading, risk management, clearing, settlement, depository and market data services for domestic and international customers. It is now truly an integral part of Australia’s financial architecture and a sought-after exchange business model.
Our equity market passed two significant milestones during last financial year: total domestic market capitalisation reached $1.5 trillion (it is now over $1.6 trillion) and the number of listed entitles passed 2,000 (there are now more than 2,100). Total capital raised, both primary and secondary, jumped 36% to $77.9 billion. There were 173 IPOs
making us second in the world. Two years ago, the average number of cash equity trades was 125,000 per day. Last financial year it rose to 194,000 and, already, four months into this financial year, the daily average is approaching 300,000 trades per day.
Volumes on the SFE market tell a similar story. In FY06 there were an average 283,000 futures and options contracts traded each day. In FY07 it increased to 340,000 contracts per day. It’s currently tracking at more than 380,000. The strength of our core businesses, including information and market data services, has allowed the Board to pay a final dividend of 91.5 cents per share, making a total dividend for the year of 163.8 cents per share, 36% higher than last year – all fully franked and consistent with our policy of returning 90% of normal net profit after tax to shareholders. It has, as I intimated at the outset, been a year of considerable achievement.
That achievement extends to maintaining our markets’ reputation for integrity. However booming the market activity we oversee, ASX continues to ensure that our markets remain fair, orderly and transparent. Our first full-year as a merged company has coincided with the first full-year of operation for ASX Markets Supervision. ASXMS is a separate subsidiary with responsibility for all day-to-day supervisory decision-making. It has its own Board and is headed by the Chief Supervision Officer who does not report to the ASX CEO. Last year ASXMS employed almost 90 people in ASX offices across the country.
This financial year the headcount is expected to grow to over 100. ASIC, the government regulator, said the establishment of ASXMS was positive because: “… it further delineates between ASX group’s commercial and supervisory activity, creates a platform for board level focus on ASX group’s supervisory obligations and allows for a more transparent funding basis for supervisory activity.” ASX continues to operate effectively as market operator and supervisor with the best interests of the market always our number one priority.
In 2007, as on four previous occasions, ASIC has assessed our annual supervisory performance, and found that ASX operates markets that are fair, orderly and transparent. It’s a finding of which we are proud. It goes to the heart of ASX’s culture and is as important a measure as the performance of our share price. In fact, we believe the two are intertwined. Engendering participant confidence in the integrity of the markets we operate – and the products and services we provide – is fundamental to our attractiveness as a place to do business. The two are inextricably linked.
That’s why, in the face of proposals to offer competition for market services, including services already offered by ASX, we have expressed so much concern about safeguarding the high levels of investor protection and market transparency that already exist. Australia’s capital markets cannot afford to have their reputation diminished for it will impact on all of us. To add emphasis to this point, the US corporate governance specialist, Governance Metrics International (GMI), scores Australia in the number one spot out of fifty countries assessed ahead of the UK, Ireland, Canada and the USA. GMI comments that “these results are consistent with governance environments based on transparency, meaningful shareholder rights and ongoing engagement and dialogue”.
That’s not to say that ASX is in a position to put its supervisory feet up. We continue to be tested by market developments, be it the influx of private equity or the contagion effects of the US sub-prime market. Metaphorically, we are constantly on our supervisory toes, reviewing our powers and processes, conducting training programs with ASIC and market users, identifying ways of reducing the regulatory burden for participants, and working closely with relevant stakeholder groups to ensure our rules and recommendations meet market needs.
ASX, through our ASXMS subsidiary, is alert to the need for balanced regulatory responses to market evolution. It is a balance we constantly work at achieving so as to remain relevant and competitive. Capital markets, like most industries these days, are truly global. For evidence, look at the severity of the fallout from the US sub-prime sector and how globally the impact was felt. One of the benefits of the ASX/SFE merger, is the strength it has given us to remain relevant in this rapidly changing world. This includes positioning ASX to play a meaningful part, if we so choose, in the global trend towards exchange consolidations. There’s been no slackening in the pace of global consolidations – or ‘alignments’ as they’re often called - since we discussed the topic at last year’s AGM.
• The Chicago Mercantile Exchange and Chicago Board of Trade have joined to form the world’s largest exchange group and last week CME Group and the Brazilian Mercantile and Futures Exchange agreed to cross-equity stakes.
• The New York Stock Exchange and Euronext have consummated their trans-Atlantic merger.
• The London Stock Exchange and the Borsa Italiana have merged.
• NASDAQ has sold its stake in LSE and is now seeking to merge with Scandinavia’s OMX.
• The InterContinental Exchange has bought the New York Board of Trade and will soon acquire the Winnipeg Commodity Exchange too, and has formed a joint venture with Toronto Stock Exchange.
• Deutsche Börse has agreed to buy ISE.
• NYSE has bought a 5% stake in National Stock Exchange of India.
• Deutsche Börse and Singapore Exchange have each bought 5% of Bombay Stock Exchange.
• Tokyo Stock Exchange has acquired 5% of the Singapore Exchange.
• NYME has taken 10% of Montreal Exchange to jointly form a new Canadian energy derivatives exchange.
• Even ASX was mentioned in dispatches, rumoured to be a purchaser of NASDAQ’s 30% stake in the LSE.
One of the more interesting developments in recent months has been the emergence of state-owned entities from the Arabian Gulf as serious players in exchange alignment. Borse Dubai and the Qatar Investment Authority have between them acquired almost half of the LSE. Qatar has also become a major shareholder in the Stockholm-based OMX. And NASDAQ will become a strategic investor in the Dubai International Financial Exchange, parent company of Borse Dubai. These moves are part of a jostling among the Gulf states for supremacy as that region’s dominant financial centre and indicate how financial power in the world is changing. The business of exchange alignments and consolidations is an intricate and multi-textured tapestry.
What does this mean for Australia?
It certainly underscores the good sense of the mergers we’ve completed. Many jurisdictions today, with multiple domestic exchanges, are scampering to catch up to the position we already find ourselves in. It also demonstrates that competition is set to intensify at a global level. The point about global competition – that with the quickening speed of execution, order flow can be directed to any market in the world in a heartbeat - can’t be overstated. Already, around 30% of the value of the Australian equity market is owned by international institutions. Lest we think only institutional investors think globally, the latest ASX Share Ownership study found that the proportion of retail investors owning shares listed on an overseas exchange has leapt from 7% in 2002 to 19% in 2006. Investors in capital markets the world over are becoming more sophisticated. These developments refute claims that ASX is a protected monopoly.
A theme running through my address is the constant need for us to reinvent ourselves. Be it product mix, supervisory processes or organisational structure we must remain alert to global trends and technological development and be prepared to change and adapt. Change is vital at the custodial level too – as it relates to the Board of your company. Over the years ASX has benefited from stability among its directors, with a number of long-serving non-executive directors enriching the Board with their experience, expertise and corporate memory.
However, the need to keep pace with the market’s evolution means the need to refresh the Board too, with new talent, new thinking and new energy. Following two retirements last year, at this year’s AGM our Vice-Chairman, Mike Shepherd, who has served ASX for 19 years, will also step down. I thank and congratulate Mike on his near-two decades of outstanding service. On behalf of ASX directors, staff and shareholders, I wish him the very best for the future. Fortunately, Mike’s knowledge of and commitment to ASX won’t be entirely lost – he will join the board of our supervisory subsidiary, ASXMS, and will succeed me as Chairman of ASXMS.
Last year we welcomed three former SFE directors (including the Managing Director and CEO) to the Board, and this year I ask that you support the election of two new directors – David Gonski and Shane Finemore. Both David and Shane will address the meeting shortly. They have already contributed to your Board’s deliberations and we are delighted to have them as directors. David Gonski’s appointment to the Board is made in the expectation that he will succeed me as Chairman of ASX. As I have previously indicated, I will not seek another term as director at next year’s AGM. I commend both these new Board members to you. As for this year, may I conclude by congratulating and saying thank you to Managing Director and CEO Robert Elstone, his leadership team and ASX staff nationwide, for the results – including financial, supervisory and market operational - they have delivered over the last 12 months.
It bears remembering that amidst all of our achievements this year, two organisations comprising vital pieces of core infrastructure to Australia’s financial economy were joined together. I said at last year’s AGM that the implementation team was working at great speed. We took the view that speed was better than perfection. Things certainly moved quickly but with seamlessness unimaginable 12 months ago.
Few organisations are scrutinised as closely as ASX and few have the breadth of stakeholders who engage with the company at so many different points. We are grateful for the loyalty, custom and patience of our listed entities, market participants, information vendors, and private and institutional investors.
They are central to everything we do and we hope to continue to play a part in their future prosperity. Our book National Market National Interest neatly draws a line under ASX’s history to this point. As we look ahead to the challenges posed by global competition and consolidation, the next chapter in the tale of ASX is ready to be written. It should continue to be a compelling story. I would like now to ask Robert to address the meeting. -- www.asx.com.au
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